1% chance you win. Will you gamble?

That stocks outperform bonds/FDs is rather common knowledge for most equity investors. But a recent study, published on 5th July 2019 by researchers at the Arizona State University & Hong Kong Polytechnic University has revealed a startling fact:

Between 1990-2018, the global stock market experienced tremendous growth & created wealth amounting to $US 44.7 trillion - but only 811 stocks out of approx. 62,000 listed stocks (1.3%) were responsible for this wealth creation.

Other interesting stats from the study:

Only 306 companies (0.5%) accounted for 73% of net wealth creation globally from 1990 until 2018

Less than 1% of non-US companies contributed to the global total

Of the 50 largest wealth creating stocks, 34 were in the US

Just 5% of firms in each of the 42 countries studied accounted for 42% of the wealth creation

TCS and Reliance were the leaders from India, respectively contributing 0.16% & 0.14% of total wealth created (more below)

Overall, the study provided an even stronger evidence for what finance professors & many investment professionals have suspected for a while - that the stock market experiences strong positive skewness & only a handful stocks out of thousands tend to drive most of the equity market returns.

The findings also has implications to the raging debate between active stock selection vs. the passive/systematic approach.

While active management does work, it’s extremely difficult to consistently identify winning stocks & then hold on to them. Investors who don’t have any advantage/skill in identifying the few stocks that will create most wealth - or in selecting an active mutual fund with the ability to do so - the study reinforces the appeal of passive investing.

I wasn’t surprised by most of the findings when I first read the paper - what really stunned me was the extent. That only 1.3% of 62,000 stocks have led to overall wealth creation in the last 28 years shows the magnitude of the challenge faced by active management.

So how does this impact you?

Picking (and holding on) the right stock can surely generate tremendous wealth - but more likely than not, people are going to pick a stock that generates middling or negative returns. Moreover, to pick such stocks consistently is difficult, and this becomes even harder as the time horizon extends.

I can’t stress this enough - diversification is important! Not only does it reduce your risk, but also increases the probability that you’ll own the small number of stocks that drive returns.

Happy investing!

-Vikas Bardia

PS: In case you’re interested, the below stocks have been the Top 20 contributors to global wealth from India!